Mar. 5, 2015

A New Look at an Old Standard: The Power of Minority Bondholders Under the Trust Indenture Act

Could an obscure statutory provision dating back to the New Deal give a distressed company’s minority bondholders the power to hold up a restructuring agreed upon by all of the other bondholders?  The answer appears to be “yes.”  Two recent cases interpreting the Trust Indenture Act of 1939 (Act) have broadly read a provision of the Act to bar any non-consensual change to the existing bond indenture that would affect any bondholder’s ultimate payment rights in the context of an out-of-court restructuring.  This is regardless of any agreements reached by the majority of bondholders and regardless of the depth of sound business judgment underlying a company’s proposed restructuring plan.  By boosting minority bondholders’ leverage in restructurings, these recent cases interpreting the Act could have far-reaching implications.  Hedge funds and other investors looking to invest in distressed debt would be wise to analyze these decisions closely.  In a guest article, Marc D. Powers, Mark A. Kornfeld, Ferve E. Ozturk and M. Elizabeth Howe provide such an analysis, and discuss the implications of the decisions for hedge funds that invest in distressed debt.  Powers is the national leader of the Hedge Fund Industry and Securities Litigation practices at BakerHostetler; Kornfeld is a BakerHostetler partner; Ozturk and Howe are associates at the firm.

U.K. Financial Conduct Authority Issues Feedback Statement Supporting Proposed E.U. Limits on Soft Dollars

Investment advisers frequently take advantage of soft dollars – credits that can be used to purchase research or other services from a broker, received in exchange for trading commissions.  See “U.K. Financial Conduct Authority Clarifies Whether Hedge Fund Managers May Use Dealing Commissions to Pay for Substantive Research or Corporate Access,” Hedge Fund Law Report, Vol. 7, No. 28 (Jul. 24, 2014).  However, such practice may be in danger in the E.U.  In December 2014, the European Securities and Markets Authority (ESMA) issued its final proposals for soft dollar rules applying to E.U. investment managers that will, in most instances, prohibit a link between brokerage commissions and the purchase of investment research.  The U.K. Financial Conduct Authority (FCA) recently expressed its strong support for those provisions.  This article provides the regulatory background for the ESMA changes and summarizes the FCA’s position on those changes.

Swiss Hedge Fund Marketing Regulations, BEA Forms and Form ADV Updates:  An Interview with Proskauer Partner Robert Leonard

The Hedge Fund Law Report recently interviewed Robert Leonard, a partner in Proskauer’s Hedge Funds Group, on implications of the recently effective Swiss Collective Investment Scheme for marketing hedge funds in Switzerland; two new forms required by the Bureau of Economic Analysis to be filed by certain hedge funds; and considerations arising out of Form ADV annual amendments.  This interview was conducted in connection with the Hedge Funds Care 17th Annual NY Open Your Heart to the Children Benefit, to be held in New York City tonight, March 5, 2015.  For more on Hedge Funds Care, click here.  See also “The Changing Face of Alternative Asset Management in Switzerland,” Hedge Fund Law Report, Vol. 5, No. 5 (Feb. 2, 2012).

U.K. Financial Conduct Authority Sanctions Aviva Investments for Inadequate Internal Controls over Side-by-Side Management of Hedge Funds and Other Funds

Side-by-side management of funds presents thorny compliance issues for managers due to the inherent conflicts of interest they present and the temptation to benefit one fund at the expense of another.  Both the SEC and the U.K. Financial Conduct Authority (FCA) are keenly attuned to such issues.  The FCA recently issued a Final Notice imposing a financial penalty of £17.6 million on asset manager Aviva Investors Global Services Limited arising out of conflicts of interest and internal control failures related to its side-by-side management of fixed income hedge funds and long-only funds.  This article summarizes the firm’s internal controls failings, its specific violations of FCA regulations and the FCA’s calculation of the penalty it imposed.  For a recent example of an SEC enforcement action involving improper trade allocations, see “Hedge Fund Adviser Structured Portfolio Management Settles SEC Charges Relating to Improper Trade Allocations and Investor Disclosures,” Hedge Fund Law Report, Vol. 7, No. 36 (Sep. 25, 2014).  Cherry picking may even lead to federal criminal securities fraud charges.  See “How Can Hedge Fund Managers Avoid Criminal Securities Fraud Charges When Allocating Trades Among Multiple Funds and Accounts?,” Hedge Fund Law Report, Vol. 4, No. 19 (Jun. 8, 2011).

How Can Hedge Fund Managers Use FOIA Requests to Generate Abnormal Returns in Pharma Stocks?

The efficient market hypothesis holds that the price of a publicly-traded security already reflects all relevant public information about that security.  A recent econometric study casts doubt on that theory, at least with regard to public information maintained by U.S. government agencies; the reason for this discrepancy is that some information, though public, is not widely disseminated and may be difficult to obtain or interpret.  The authors of the study researched FOIA requests made by specific institutional investors with respect to specific, publicly-traded securities and concluded that such investors were able to “translate the FOIA information received into profitable trades.”  This article summarizes the paper and provides guidance for hedge fund managers looking to use FOIA requests to boost investment returns.  On the role of FOIA and similar state statutes in the hedge fund industry, see “Repeal of Dodd-Frank Confidentiality Protection for SEC: What Investment Advisers Lost and What Remains,” Hedge Fund Law Report, Vol. 3, No. 47 (Dec. 3, 2010); and “Ten Strategies for Preventing Disclosure of Confidential Hedge Fund Data under State Sunshine Laws,” Hedge Fund Law Report, Vol. 5, No. 18 (May 3, 2012).

Seward & Kissel New Hedge Fund Study Identifies Trends in Investment Strategies, Fees, Liquidity Terms, Fund Structures and Strategic Capital Arrangements

Despite a persistently challenging capital raising environment, 2014 saw the launch of initial hedge funds by a number of new hedge fund managers, an increasing number of which offer tiered management fees or founders share classes.  See “How Can Hedge Fund Managers Use Founder Share Classes to Raise and Retain Capital?,” Hedge Fund Law Report, Vol. 5, No. 28 (Jul. 19, 2012).  Seward & Kissel LLP recently published its annual study analyzing several key findings relating to newly formed funds launched in 2014 by its U.S.-based manager clients.  This article summarizes important takeaways from the study, including trends with respect to investment strategies, fees, liquidity terms, fund structures and strategic capital arrangements.  For the HFLR’s coverage of previous editions of Seward’s annual study, see “Seward & Kissel Study of New Hedge Fund Launches Identifies Trends in Preferred Investment Strategies, Fees, Liquidity Terms, Fund Structures and Strategic Capital Arrangements,” Hedge Fund Law Report, Vol. 6, No. 15 (Apr. 11, 2013); and “Seward & Kissel Study Highlights Trends in Hedge Fund Investment Strategies, Fee and Liquidity Terms, Fund Structures and Strategic Capital for New Managers,” Hedge Fund Law Report, Vol. 5, No. 8 (Feb. 23, 2012).

SEC Order Confirms the Agency’s Focus on Investment Advisers That Improperly Claim the Imprimatur of SEC Registration

One area of the SEC’s focus in 2015 will be on managers who are ineligible for registration as investment advisers under the Investment Advisers Act but who, through fraudulent inflation of assets under management or other means, nevertheless improperly apply for and maintain such registrations.  As reported in the Hedge Fund Law Report, speaking at the Regulatory Compliance Association’s Compliance, Risk and Enforcement 2014 Symposium, Ken Joseph, associate director in the SEC’s New York Regional Office, stated that the SEC will be examining firms trying to take advantage of marketing or other benefits – perceived or actual – available only to SEC-registered investment advisers, when those firms should not be so registered.  See “RCA Compliance, Risk and Enforcement 2014 Symposium Highlights SEC Exam Priorities and Focus Areas, Mitigating Regulatory Filing Risk and Key AIFMD Issues for Non-E.U. Managers (Part One of Two),” Hedge Fund Law Report, Vol. 8, No. 7 (Feb. 19, 2015).  In a recent action against such an improperly registered adviser, the SEC has confirmed this focus.

Frank L. Napolitani Joins EisnerAmper Financial Services as Director

EisnerAmper recently announced that Frank L. Napolitani has joined the firm as a Director in the Asset Management Group within the Financial Services practice.  For insight from EisnerAmper, see “How Can Hedge Fund Managers Structure, Negotiate and Implement Expense Caps to Amplify Capital Raising Efforts? (Part One of Two),” Hedge Fund Law Report, Vol. 6, No. 25 (Jun. 20, 2013); Part Two, Hedge Fund Law Report, Vol. 6, No. 26 (Jun. 27, 2013); and “Use of SSAE 16 (SAS 70) Internal Control Reports by Hedge Fund Managers to Credibly Convey the Quality of Internal Controls, Raise Capital and Prepare for Audits,” Hedge Fund Law Report, Vol. 5, No. 11 (Mar. 16, 2012).  For insight from EisnerAmper Compliance and Regulatory Services, see “The Role of Outsourced Compliance Consultants in the Hedge Fund Compliance Ecosystem,” Hedge Fund Law Report, Vol. 7, No. 25 (Jun. 27, 2014).

Ray Iler Joins EY Wealth & Asset Management

On February 26, 2015, Ernst & Young LLP announced that Ray Iler, former regional leader of Deloitte’s hedge fund practice on the West Coast, has joined EY’s Financial Services Organization’s Wealth & Asset Management practice.  For commentary from other EY professionals, see “Critical Components of a Hedge Fund Manager Cybersecurity Program: Resources, Preparation, Coordination, Response and Mitigation,” Hedge Fund Law Report, Vol. 8, No. 2 (Jan.15, 2015); and “HFLR-Advise Technologies Panel Explores AIFMD Marketing and Annex IV Reporting Requirements,” Hedge Fund Law Report, Vol. 8, No. 2 (Jan.15, 2015).  For coverage of a recent EY survey, see “Ernst & Young’s 2014 Global Hedge Fund and Investor Survey Considers Growth Areas for Hedge Fund Managers, Related Costs and Challenges, Operating Expenses and Cybersecurity,” Hedge Fund Law Report, Vol. 8, No. 2 (Jan. 15, 2015).